Micron Technology (NASDAQ:MU) is an incredibly cyclical company. And that adds complications in trying to value MU stock.
After all, that cyclicality leads to volatile earnings. In fiscal 2018, for instance, adjusted earnings per share increased 141% year-over-year. Adjusted EPS promptly plunged 47% in fiscal 2019. The figure then fell another 84% year-over-year in the first quarter, with guidance for the second quarter implying an ~80% decline.
The volatility in profits makes MU stock look quite different from year-to-year. At peak earnings, Micron stock at times traded for less than four times earnings — a seemingly absurd multiple. With pressure coming in fiscal 2020 however, shares now trade hands for almost 25x fiscal 2020 consensus EPS estimates — a valuation which hardly looks cheap, at least on its face.
Despite the recent declines in earnings, MU stock has rallied, gaining 44% over the past year. In just six months, shares have bounced 33%, and all-time highs above $60 aren’t that far off. Because Micron is a cyclical name, the rally so far makes some sense. But for the same reason, the rally could eventually stall out.
The Bottom Is In For Micron
The good news for Micron looking forward is that the news, and the numbers, almost certainly are going to get better. As I detailed last month, Micron management after December’s fiscal Q1 report called the bottom in memory. Steve Milligan, chief executive officer of rival Western Digital (NASDAQ:WDC) was similarly optimistic toward NAND flash memory after his company’s fiscal second quarter report late last month. He noted that “results reinforce our prior comments that the June quarter marked the bottom of this flash cycle.”
Meanwhile, Intel (NASDAQ:INTC) posted revenue in data center that came in well ahead of expectations. That suggests demand has rebounded in that key end market, and strong numbers from Amazon.com (NASDAQ:AMZN) and Microsoft (NASDAQ:MSFT) show the long-term opportunity in cloud.
There’s simply a lot of evidence to suggest that Micron will beat expectations with its second quarter report in March — and that performance will only get better from there.
Is a Bottom Necessarily Good News for MU Stock?
The question is whether a bottom necessarily is good news for Micron stock. After all, the gains in cyclical stocks come before the bottom is apparent. That’s been the case with MU stock, which rallied long before industry executives turned bullish.
Outside of chips, Caterpillar (NYSE:CAT) provides another perfect example. CAT stock was a buy in early 2016, well before its record-setting run of revenue declines came to an end. By the end of the following year, the rebound was obvious, and CAT stock had more than doubled. Since then, shares have drifted downward.
Micron stock itself is showing signs of stalling out, with the stock down over 1% over the last month. And the worry is that for 2020 at least, the stock doesn’t have much of a catalyst. Investors and analysts are expecting a rebound in demand this year; the rally in the stock has priced in at least some of that rebound.
An earnings beat in March or June could perhaps confirm the bullish outlook, and maybe help the stock. But it’s also possible that investors simply shrug. This is a stock that’s challenging all-time highs — and doesn’t necessarily look cheap, depending on where earnings are headed.
Where’s The Top of the Cycle?
The potential positive for Micron is if this upcycle proves stronger than expected. Again, earnings have been incredibly volatile: six cents (on an adjusted basis) in fiscal 2016, then nearly $12 in fiscal 2018.
One key consideration in valuing MU stock is trying to estimate what “mid-cycle” earnings are. Some investors might use ~$6 as a benchmark — about halfway between mid-decade weakness and FY18 strength — which probably suggests Micron stock still is too cheap.
Others would argue that the peak from two years ago came from a perfect confluence of factors — enormous cloud demand, shortages — which simply won’t repeat for years, if ever (Again, Caterpillar is a constructive example, given its early-decade benefit from the “commodity supercycle“). In that model, FY19’s $6-plus probably is closer to a peak, and normalized EPS sits in the $4-$5 range. A share price near $60 in that context seems fairly reasonable.
It will take some time — likely several quarters — for Micron to prove who’s right. There’s a wide range of scenarios at this point: analyst estimates for fiscal 2021 EPS range from $3.29 up to $10.
And in the meantime, I question what could drive Micron stock higher. The stock is reasonably cheap, yes. A broader chip rally would help. But in terms of outperforming the market, at this point MU stock may be a 2021 story.
As of this writing, Vince Martin has no positions in any securities mentioned.